I recently wrote about Tata Motors collaborating with their suppliers to foster innovation and costs savings while creating their $2,500 Nano. Reactions to this model on the blog and in various LinkedIn Groups ranged from wonder and jealousy to disbelief that it would work in the US, where some readers accused processes and paradigms as too closed off to new approaches. But as Apple’s new iPod Shuffle shows, American OEMs and their suppliers can indeed work closely together to create cutting edge products … at remarkably low price points and HUGE profit margins.

Business Week’s Technology section ran an article this week titled Deconstructing Apple’s Tiny iPod Shuffle. As far as Apple products go, this new iPod is actually somewhat controversial, since it literally has no buttons and talks to you (bring to mind a recent piece in The Onion - Apple Introduces Revolutionary New Laptop with No Keyboard). BW’s article is based primarily on the research of iSuppli, a market intelligence firm that tears products apart to estimate the cost and manufacturer of the components. iSuppli found that, without including shipping and design, the cost of components for the 3rd generation Shuffle is $21.77, or 28% its $79 retail price. And by comparison to other Apple products, parts for the 2007 iPod Touch and Nano were 49% and 40% of their retail price. So the Shuffle has an extremely healthy margin in a marketplace full of mp3 player options.

So how did Apple do it? What’s their secret sauce for driving innovation and containing costs? And can other companies learn from them from a supply chain perspective?

Apple’s genius is their ability to find best-of-breed suppliers who are at the cutting edge for their individual piece of the puzzle and then combining those parts to make small, simple, sleek products at price points just low enough for consumers to bite at on a massive scale … repeatedly. For example in the new Shuffle, Apple uses Samsung for the extremely small and efficient Flash memory. Despite the fact that Samsung is a competitor with a large line of mp3 players, they can supply 4GB’s of memory for about $6 which makes it easy for Apple to justify the relationship. BW’s quote from iSuppli analyst Andrew Rassweiler shows that Apple’s innovative specs extend far beyond the high profile guts of the product and into the less glamorous “passive” parts, such as capacitors and resistors:

“Until recently we didn’t see passive components quite this small. Here you see them working on the cutting edge, even on the passives.”

Apple is famous for their tight lipped development process. So it’s likely that their suppliers had little idea of exactly how their components would come together. And the idea that 4GB’s of Flash memory is now going for $6 probably has some people accusing Apple of squeezing their suppliers on price. But I suspect both sides - buyer and suppliers - view the relationship as mutually beneficial. There’s something in it for everyone.

Apple creates a consumer phenomenon by smart and simple packaging of the best, brightest and smallest components on the market. And those suppliers - from the big names like Samsung to the countless “passive” parts makers - can count on tremendous volumes to drive down unit costs and drive their innovation pipeline. Guaranteed those manufacturers (and their competitors who rely on reverse engineering) benefit from the constant push to create new, smaller, more efficient parts, since they likely apply that technology to their other product lines. And the assurance that they’ll have a market for those innovations at a considerable volume.

Can a typical company replicate this symbiotic buyer/supplier relationship? Maybe. It obviously depends on economies of scale to make Apple’s model work. But like Tata Motors, Apple shows what some creative thinking and collaborative supplier relationships can do.

Justin Fogarty is Managing Editor of Supply Excellence. For any questions or feedback on the blog or its contributors, Justin can be reached at jfogarty[at]ariba.com.